Deeds in Lieu of Foreclosure: Advantages, Disadvantages, Avoiding Pitfalls, and Vital Provisions

Description

When a mortgage is in default, a deed in lieu of foreclosure offers distinct advantages: the lender immediately becomes the owner of the property, allowing it to take immediate control of its operation, and the transaction can be quickly negotiated and completed, avoiding the time and expense of foreclosure. In exchange, the borrower and guarantor, when applicable, can negotiate a release of obligations under the loan with less impact on the borrower's credit rating and reputation in the industry.

Despite the benefits, there are potential disadvantages for a lender to consider. First, borrowers often challenge the deed after the fact by claiming that the deed was really a form of disguised mortgage. Second, unlike a foreclosure, a deed in lieu does not eliminate any junior liens against the property.

As appealing as a deed in lieu of foreclosure may be to a borrower, the borrower is also immediately dispossessed of the property. Also, despite being a viable and sometimes advantageous remedy, a borrower cannot force a lender to accept a deed in lieu and title to the property, leaving the lender to continue with its foreclosure and receiving the cash flow from the property.

The typical deed in lieu agreement will obligate the borrower to deliver a deed in lieu (along with an assignment of leases and contracts, rents and security deposits, a bill of sale, customary organizational documents, and legal opinions)--most often in exchange for a release of liability of the borrower and any guarantor or indemnitor. Ideally, for the borrower, the lender will also agree to execute and deliver at closing a covenant not to sue the borrower or any guarantors in connection with the loan, provided that the borrower complies with the deed in lieu agreement. Lenders will also want to include appropriate release language to avoid potential liabilities associated with the property, and a non-merger clause to permit the lender to later foreclose subordinate liens if necessary.

Listen as our authoritative panel discusses the advantages, disadvantages, and common pitfalls of deeds in lieu. The panel will also provide tips on the key issues that must be addressed in a deed in lieu agreement.